Romneymania keeps sweeping America.

[Torie]

Yes it's true. I don't love Mittens, and he doesn't love me. We are not going to bed each other.

[Torie]

The government put a lot of pressure on lenders to go the subprime route. The surprise is that the financial gurus were at once too stupid and greedy, so the suck loans were successfully sold on the secondary market on margin, to folks who had no idea what they were doing, or what was in the loan tranches. It was fine as long as housing prices kept going up (there was always an equity cushion). It was obvious that when prices stopped  going up, the loans would go bad. What we didn't know is that the quake would be a 9 on the Richter scale rather than a 7 due to the leverage at a 10-1 margin, or some insane amount, at which the securitized loan portfolios were purchased, thereby compounding the financial dislocation by a factor of 10 or so. It's true that in the financial industry, the players tend to focus on how to make a lot of money in the short term, and if it all later collapses, no problem, they have several million in their bank account, and can just lie on the beach until it blows over, and the next cycle begins.

Another little problem is that the market cannot hedge very well, or price, this kind of "omega" risk. When the 9 quake hits, all the gears and brakes in the system are stripped, and burnt out, and the financial vehicle spins out of control. One needs to plan for omega risk, and have a bomb shelter to survive it. That is why the wise have a portion of their portfolio in Treasuries and high grade munis. Given high grade short term corporate bonds take a tumble when the quake hits, in the Lehman quake that tumble being about a 15% drop nearly overnight. I was not a happy camper when that happened.

[Torie]

Making irresponsible sub-prime loans was hugely profitable for companies.

You're right, but think about this:  In a free market, doesn't this sound crazy?

"Making irresponsible sub-prime loans was hugely profitable for companies."

We all know the REASON why the "irresponsible sub-prime loans were HUGELY PROFITABLE", but it seems we can't face it:  The irresponsible government guarantees.

Tell us more how that works, with specifics as to the guarantees.

If the government guaranteed everything, it would have been the government which failed, rather than all the financial institutions (and yes, almost all of them effectively did - all of them). 

[Torie]

Hey Torie, what do you make of Richard Posner's argument that the biggest failure of the government in contributing to the facilitation of the housing crash was the Fed's not, from the middle of the decade on, inching up interest rates?  This, he argued, would have brought about a slower increase in price, a slowdown in speculation and given the financial institutions some time to deleverage.

I don't know, but it is not that interest rates were that low. I think it is more that folks could buy homes who were less credit worthy, and with a smaller or no down payment. With no payment, it is sort of like renting a house with a free option to buy. Who wouldn't take that option?  And once folks read that housing prices went up 15% or 30% in a year, the frenzy really gets going, as folks chase past performance. As long as the credit is there, the bubble can go on for a long time.